EUR/USD Soars on Carry Trade Rally

Global equity markets plunged on Monday from continued fears of slowing growth in China spilling over into other economies. The turmoil is likely to continue until Chinese officials make a definitive move to calm the markets.

The situation has become so bad that many investors are now backing the thought that the U.S. Federal Reserve will be forced to refrain from its first interest rate hike in September. Some traders are even increasing bets that the central bank will not make a move until 2016.

Taking a September rate hike off the table helped give the EUR/USD a boost, but the stronger reason for the rally is the stock market sell-off. Since the European Central Bank lowered interest rates to near zero, global stock investors have used the Euro as a funding currency. This means they have been borrowing in Euro to invest in Dollars. Now that the market is in the middle of a correction, investors are selling Dollars to pay back the loans in Euros. This has triggered a huge rally in the EUR/USD, taking the market back to over 1.1674 which is 50% of the break from the October 2014 top at 1.2886 to the March 2015 bottom at 1.0462.

Talk of the Fed backing off a September interest rate hike has driven the U.S. Dollar lower, helping to boost the British Pound. So far the GBP/USD has traded as if the U.K. is insulated from the market turbulence caused by China. There is also speculation circulating that the Bank of England may even raise rates before the Fed. This is also helping to underpin the Forex pair.

After trading sideways to lower most of the session, December Comex Gold futures finally turned positive, but volatility has been relatively low compared to last week’s price action. The long-term trend is still bearish, but the short-term trend is up. Renewed selling in the equity markets could lead to renewed hedge buying in gold, this will be supportive. Additionally, if the money coming out of the stock markets does not flow into T-Bonds or T-Notes, it is likely to move into gold, helping to prop up prices further.

Crude oil futures continued to fall on concerns about the global supply glut and a slowdown in demand should China move into a recession and drag the rest of the world down with it.

In other news, FOMC Member Lockhart is scheduled to speak at 3:55 pm ET. He may comment on current market conditions and the probability of a Fed rate hike in September.